Trusts are a well-established way to protect and control assets, read our guide here.
In simple terms, a trust is a legal arrangement set up for the management of financial assets on someone’s behalf; the assets are held “in trust” for the beneficiaries, with the assets in the control of the trustees you have nominated (this can be taken care of as professional service, which may be offered by a subsidiary of your wealth manager).
You might use a trust as part of inheritance planning. For example, you may establish a trust to manage a portion of your estate for younger family members, giving them the benefit of a regular income before the assets pass on fully when they reach a certain age. Alternatively, trusts can manage the assets of someone who has become incapacitated. They might also be used for tax mitigation purposes since trusts may offer several tax efficiencies for high net worth individuals.
How it works
Virtually any asset can be held in trust; typically they contain shares, bonds, property, cash, land or collectibles/antiques. When setting up a trust, your solicitor will write up a trust deed which outlines your wishes: who the beneficiaries should be, how the assets should be held and distributed, and any other conditions you stipulate. Your wealth planner can advise you on how best to set up a trust for your purposes.
Types of trust
There are several types of trust and deciding which one is appropriate is largely dependent on how you want the capital and income to be transferred:
- In a bare trust, the beneficiary is entitled to all capital and income once the conditions have been met (for example, the beneficiary turns 18).
- In an interest in possession trust, the beneficiary receives income from the trust (e.g. dividends from shares or rental income from property) as it arises but the capital is held back for a later date.
- In a discretionary trust, trustees can decide how to assign the income (and sometimes also the capital).
You must choose at least one trustee, who could be a lawyer, relative or friend. Often, there cannot be more than two trustees. Once capital has passed into a trust, the trustees are responsible for deciding how to invest or use it, and for paying any applicable taxes.
Tax mitigation and financial planning
Trusts are subject to income, capital gains and inheritance tax. The income tax payable can range from 10-50% depending on the type of trust and level of income the trust generates.
Capital Gains Tax is paid at different points in the process for different trust types, typically at the standard rate of 28%. In addition, inheritance tax can apply to a trust even if the settlor (the person giving the assets over to the trust) is still alive. Your wealth planner can help you to optimise your trust to give your beneficiaries the greatest benefit.
Trusts can be a useful means of mitigating inheritance tax, which is currently levied at 40% on assets over £325,000 in the UK. The assets which you place into a trust no longer belong to you by definition. Therefore, they can fall outside of your estate when you die. However, the seven-year gifting rule applies: you must live on for seven years after having set up the trust or IHT may still come into play (although this will only be on the original amount invested and not any growth arising from it; there are also special tax reliefs when someone dies three years after making a gift but less than seven).
Trusts are also very useful when combined with bonds, since the bond can be set up in such a way that various beneficiaries own different parts of it and so can receive proceeds in the most tax-efficient way for them. Clearly, this is where the expertise of a wealth structuring specialist is essential.
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Trusts are another area where investment management and legal services intersect. You must ensure that your trust has been optimised in terms of structure and set-up correctly if it is to do what you intend it to. Your wealth manager will be able to outline all your options in light of your entire financial situation.
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